I’ve been asked a decent amount by friends, other founders and employees about how to think through COVID-19, impacts to our markets, all to make sure we guide our businesses well through these times. I’ve never been through a cycle myself so I lean heavily on studying others and learning from history so we can give ourselves the highest chance of success.
Overall, I think my philosophy during a crisis is
Be Fearful When Others Are Greedy and Greedy When Others Are FearfulWarren Buffet
Prepare for a recession lasting > 2 years
There’s a lot of literature and countless opinions upon whether this is a V, U, W style comeback. I like this piece of data by BCG showing recessions since 1980. We can expect that this recession could last 1.5-2 years until the markets start to rebound (as in 2000 or 2007). Let’s hope this isn’t the Great Depression which lasted about 10 years and only really changed because war drove massive demand for products and services.
What you will notice about these graphs is there are always false hopes (bear market rallies) where politicians announce things that temporarily relieve the strain on the market. So don’t take action on announcements, but wait for real changes in the economy to get your hopes up.
One other interesting record is that COVID-19 caused the fastest drop of the S&P 500 into bear market territory. It says something about the severity and decisiveness of COVID-19’s impact on the economy.
For those new to recessions, the script could look like:
- Virus causes supply shocks due to shutdown in China, this means no iphone parts for Apple
- Lockdowns now mean we don’t go to restaurants/gyms etc and demand drops
- Demand drops means businesses go bankrupt and fire/furlough/paycut workers
- Bankrupt businesses and fired workers don’t pay back debts, spend less
- NPLs climb, banks and lenders don’t lend, so you have credit crunch (like 2008)
- These recessionary impacts typically take 1.5-2 years (based on the last 30 years) to reach the bottom and then markets slowly recover. It will take longer if governments don’t intervene
Overall macro environment shrinks
- Drop in business activity – lots of businesses are missing/revising targets, e.g. Apple, Microsoft
- Supply chain disruptions – this is different from other recessionary triggers because for global markets, this started out as a supply disruption vs demand. It’s now quickly turned into demand too
- Travel slows – Asia is down 98% in travel (see chart below). US expecting $113b impact on US airline industry
VC financings could slow/stop
I’m calling out this one because this one change has massive impacts on the startup landscape. The last two times we saw recessions, VC financings fell: 87% drop in financings from 2000-2002; 30% drop from 2007-2009. The difference this time is there is a tonne of “dry powder”(means cash not yet invested) sitting on the sidelines which may change how this one impacts the world. This means VCs have money to invest in good deals (relieving funding gap a little) and historically means VCs with deep pockets double down into existing investments that may need bridge financing.
There is a really rare opportunity to win
Dominant startups thrive from recessions
Many iconic companies were set up and thrived during hard economic times. Google (founded 1999), Facebook (ramped fast during 2008/9), Apple (took huge market share post AppStore launch in 2008). Airbnb raised during 2008 and Amazon raised in 1999 just before the 2000 crash came. A famine in funding means it’s harder for everyone to raise, so this situation favours those with cash ready to go.
3 phases in the recovery
Learning from the best
Think of a recession as a sharp curve on an auto racetrack—the best place to pass competitors, but requiring more skill than straightaways. The best drivers apply the brakes just ahead of the curve (they take out excess costs), turn hard toward the apex of the curve (identify the short list of projects that will form the next business model), and accelerate hard out of the curve (spend and hire before markets have rebounded).Source: Bain
So I think it’s worth planning with this in mind.
1. Extend your runway
Having weathered every business downturn for nearly fifty years, we’ve learned an important lesson — nobody ever regrets making fast and decisive adjustments to changing circumstances. In downturns, revenue and cash levels always fall faster than expenses. In some ways, business mirrors biology. As Darwin surmised, those who survive “are not the strongest or the most intelligent, but the most adaptable to change.Sequoia
If you’re running a business, our first job is to ensure the survivability of the organisation. In the short term, this likely means cutting costs in relation to revenue and the war chest you have available.
For me, I think three parts to extending runway:
Take out costs
Remove low ROI marketing spend. In our case, we had dozens of voluntary pay cuts which really demonstrated our culture well. I’d keep furloughs and layoffs as a last resort, though often necessary.
In 2010, Okta had only ten customers on board. We spent the entire year focused on their success, iterating and discovering what they needed and how we could best deliver. By 2011, we had 50 customers; today we have over 2,000. Use a down period to nail down the core product features, get your architecture right and make sure your first customers see value in the product.Frederic Kerrest (Founder, Okta 2009)
I think there’s some wisdom to taking the down months to fixing infrastructure of your systems, processes when they’re not under strain. Normally, it’s hard to prioritise these builds when you need to grow but it’s a good use of time to fix these issues now, so you can serve existing customers really well.
When a country is going through an economic downturn, innovation is hard to come by: businesses often hunker down, play it safe and wait for the storm to pass. The vacuum of innovation is the perfect time to bring new ideas to market, since it means that there is significantly less competition in the market for your idea… By the time the market caught up, we were well ahead of the pack.Frederic Kerrest (Founder, Okta 2009)
A lot of wisdom here and probably the hardest to implement. We know giants come out from these recessions so we have to pick the right bet and go big on that bet, so that you emerge dominant at the other end.
2. Invest in growth drivers
The hardest part during a recession is to act on a contrarian thesis and invest in our future drivers or growth. Make sure you find the new business model, product, service that will drive your business into the future. Then back that idea, double down and invest big into that new business. Lots of stories of big organisations being able to manage these big pivots well, including Netflix (DVDs -> streaming), Amazon (Books -> everything else), IBM (hardware -> consulting).
3. Scale drivers
As the economy recovers, then scale up your various operations. I won’t speak too much about this because this will feel like good times again and you’ll go back to how you’ve always run your business.
COVID-19 is likely triggering a recession that could last up to 2 years
- Demand drops from lockdown -> unemployment -> credit crunch
- VC funding may also dry up
This is a rare opportunity to shine if you shape it well, so do 3 things:
- Extend your runway: reduce low ROI activities, fix infrastructure, find new opportunities
- Invest in growth drivers as markets start to pick back up
- Scale drivers before competition does